MOSL: PERSISTENT SYSTEMS (Upgrading Buy): Impressive margin beat; Upgrading to “Buy” on expectations of margin cycle reversal

​Persistent Systems: Impressive margin beat; Upgrading to “Buy” on expectations of margin cycle reversal

(PSYS IN, Mkt Cap USD0.7b, CMP INR568, TP INR700, 23% Upside, Buy)

• Above-estimate margin was the key highlight of 4Q…: PSYS’ 4QFY17 EBITDA margin expanded 200bp QoQ to 17.9% (ex. exceptional item), implying a 270bp beat, led by a combination of factors such as SGA optimization, bad debts recovery and some pruning in costs related to the IBM IoT deal. Revenue declined 0.9% QoQ to USD109m, marginally below our estimate of USD110.5m. Adjusted PAT grew 2.8% QoQ to INR842m, above our estimate of INR706m, led by strong EBITDA beat.
  
• …capping a mixed FY17: During the full year FY17, dollar revenue grew 22% YoY to USD429m (and ~11% organically), EBITDA rose 11.6% YoY to INR4,653m and PAT grew 5.2% YoY to INR3,129m. While revenue traction was healthy, margin contraction of 180bp YoY (albeit on expected lines post IBM IoT arrangement) and total revenues from the IBM deal were a couple of pushbacks.
  
• Segmental performance on expected lines: Product Engineering Services (43.9% of revenues, includes ISVs except IBM) was down 0.9% QoQ, while Digital (~20% of revenues) drove growth (+11% QoQ). Revenues from IBM alliance (31% of business) fell 10.6% QoQ, impacted entirely by seasonality in the IoT deal (-USD3.5m QoQ).